Risk premia rising: Energy, Canada growth and Japan’s policy shockwaves
Over the last month, markets have been remarkably resilient despite being pulled in three directions: Middle East conflicts have pushed energy prices back to the center of the inflation story; Growth in Canada is softening just as commodities (including precious metals) are becoming more volatile; and Japan’s rate trajectory is reintroducing global duration risk as politics and policy uncertainty heighten the risk of the broader carry-trade unwind narrative. The common thread: the market backdrop is shifting from “smooth disinflation” to a noisier mix of supply shocks, policy and geopolitical uncertainties, and cross-asset volatility.
The NEI perspective
The Battle of Hormuz causing energy prices to soar – Middle East escalation is pushing energy and shipping
risk premia higher. inflicting inflation pressures through oil and LNG markets. This dynamic is keeping yields firm and undermining near-term rate-cut expectations. Bottom line: Markets are increasingly pricing this as an energy-driven inflation shock, the magnitude of which depends on the duration of the conflict. A drawn out conflict may have significantly negative impact on the global economy.
Growth in Canada remains choppy – Canada’s GDP contraction in Q4 reinforces a softer-growth narrative, even if inventory effects exaggerate the headline weakness. However, volatile commodity and metals pricing can still overwhelm macro signals and drive TSX performance in the near term. Bottom line: The macro picture in Canada is softening, near term outlook still dependent upon USMCA negotiation, before benefits from longer term nation building initiatives trickles down.
Takaichi trade re-ignite carry-trade unwind worries – Japan’s Prime Minister winning a supermajority is reviving the “Taikaichi trade”, with weaker yen, stronger equities, and bond selloff with longer-dated JGB yields rising. This raises the odds of carry-trade unwinds and downward impact for North American markets. Bottom line: The “Taikaichi trade” brings increased risk of weaker yen, stronger equities, and rising long JGB yields – raising carry trade unwind risks that could pressure North American assets even without a local data shock.